Wednesday, July 23, 2014

Herbalife clubs - another experience

Bill Ackman has made something of my visit to a Herbalife club in his presentation. I have visited several. And I have a radically different interpretation.

But for the moment I just want to tell Bill Ackman a story.

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In my lifetime in Australia it was commonplace to take children of mostly of mixed aboriginal racial heritage from their mothers and adopt them into white society or even to leave them in welfare homes.

This was done for the children's welfare, usually but not always close to birth. But there are stories of children aged four being hidden from the welfare because the kids would be stolen.

Stealing children had widespread social acceptance in Australia. The condition in which the aboriginal people lived was very poor - often rural, often quite lowly educated. And you hear stories of children aged 12 in middle class rural towns saying they have never met an aborigine and being told to look in the mirror (because they were aboriginal).

This wasn't a genocidal society. Indeed at the same time Australia had a massive multiethnic immigration program running. It just became the view of the liberal intelligentsia in the city (people who were utterly disconnected I might add) that this was welfare improving.

Like you Mr Ackman I am instinctively more than a touch paternalistic liberal. This was done by and supported by people like me. And dare I say it people like you.

The liberal intelligentsia came to this view however without ever talking to an aboriginal mother, without listening to their stories, without actually seeing what their policy looked like on the ground.

The literature of the time clearly made this out to be an interventionist welfare program. It was done for the victims own good. And the victims own good was widely believed by people who did no research. Strangely the welfare agencies - who should have had an idea that what they were doing was evil - were strong supporters. But their salaries were paid for by an evil program and their view of morality lined up with their pocket book. [Even then it would have been hard to describe them as evil people when they were doing it. They were concerned left-of-center but interventionist liberals. Like me. Like you.]

With our modern eye on this the church groups, rotary clubs, welfare agencies and the government were all deeply racist. They separated children from their mothers against their mothers wishes and did not listen to value their stories because they were different from them, had different colour skin and sometimes spoke in a different language or broken English.

I have - when all the historic inquiries into this practice - took place read the literature and wondered whether - reading it then - whether I would have seen the program for what it was. Pure evil. I have come to the conclusion I wouldn't have. There is an underlying misunderstanding of what is different in all of us.

I too would have been an evil person by my implicit support for evil.

But I resolved then to always listen to the stories that people told me even when it offended my sense of decency.

Let me tell you about a Herbalife club in the Bronx. This had real customers - about fifty per day which is fairly standard - who came along and purchased their shakes and sat around and chatted. It was like many other Herbalife clubs that I have visited. There was a grid on the wall with the names of the regular attendees, and gold stars against their names for when they lost the requisite amount of weight.

You could do the calculation and work out that husband and wife who ran this club were earning marginally less than minimum wage for the time that they were there. They didn't have much of a downline. A few of their customers purchased shakes at home for personal use - and they got some income from them. But for people who were modestly entrepreneurial it was almost sad - it certainly offended my sense of what is the right distribution of income to see them working so hard for so little. At first for me it was a little like poverty-tourism - the sort of poverty tourism you see when you visit small towns east of Battambang (Cambodia) or for that matter Arakun (a somewhat dysfunctional aboriginal town in Northern Australia.

But just as I would have been deceived by a welfare program in that aboriginal town I made a point of listening to the woman who ran the shop. And what I heard surprised me.

A husband and wife had been running this club for about fourteen months - and yes - they worked out that per-hour they made slightly less than minimum wage. They opened the club as a couple in the morning and he took the children to school and went to his minimum wage job. She ran the club, her friends came by. Most importantly after school her friends dropped her children off along with their own and went to their minimum wage jobs.

There were a pile of toys in the back and the place looked a little like a creche. The kids played well - and yes - one of her customers - in full knowledge of the financial circumstances was going to start a similar business a few miles away.

When I asked her about whether this was a pyramid and should be closed by the government she was hostile. She knew about you Mr Ackman but her attitude was that you wanted to take her children away from her.

I could not help but be struck by the parallels.

This is not a pyramid. There are plenty of real sales to real people. That is visible. Its a lousy business but it is a business in which people have integrated their lives and their families.

If it were Australia I would not hesitate to call the unwillingness to listen to the stories of the poor people of different race what I called it then: racism. In the US it is probably not that. US attitudes to Hispanics are far less racist than Australian attitudes to our aboriginal population.

In the US it is just money/class and the separation of the 1 percent from the masses. It is entirely possible to be from Manhattan and the Hamptons and completely lacking in empathy for people whose income is near minimum wage.

When I listened to people at Herbalife clubs I heard a story completely different from the story you tell in your presentations. It is a story about people who have integrated this business into their life. About people who have found community. And about people who have controlled their diabetes.

32 comments:

John, I take your point. The question we'd ask though isn't only isnt' A. evil to "take her children", but isn't Herbalife evil for chargin them this much for the sense of community which people you spoke clearly miss and need? (and it's hard not to..) Wouldn't it be better for all involved ex Herbalife for the couple to run a creche, where their friend would pay for the (community) childcare or something similar? Isn't it evil to give the sense of community at an extortionate costs?

Of course, you want to make a buck from being long Herbalife, and Ack from being short but how about someone making a buck w/o Herbalife? (I admit it would suit Ack better than you...)

I have a similar example from Eastern Europe. There's a large number of pensioners there, who, if they don't have much family (or family that would care about them much) are extremely lonely in a society that changed so much in the last few decades that they feel lost. The only other people they can reasonably connect with are people of the same age - but that's not trivial unless you're in one of the larger cities, and even then it's a challenge for someone who may not be a social type to start with.

Some seriously dodgy companies started to use that. That is, they visit the pensioners, and then bus them to "sales presentations", which are really large pensioner get-togethers. A part of it is meeting other people, but at an opportunate moment it also involves strong (as in extreme) sales pressure to buy overpriced stuff. Most of the people going there aren't entirely dumb, yet they go there - to meet people socially, because it's one of their only chances. And that's what they pay for.

Of course, when this was publicised a bit, the automatic reaction was to put in stronger laws to stop the pressure selling. No one really understood it's not the $1 pots being sold for $100 that the pensioners are buying, but the day out (I'll admit tjat before reading your HLF series, I'd not understand it either). And no one came with "let's help pensioners meet each other and even make a buck" plan. Probably, amongst other reasons, because the pensioners and when-they-visit their families can better justify to themselves miracle pan for $100 that gathers dust than shelling out $50 for a day out experience.

i've read your blog for a very long time. i too cringe every time i hear ackmann talk about the poor people. i also think that it is very possible there are some really good things that happen at herbalife clubs. but i think those nutrition clubs are really bad. it kinda broke my heart to be honest. i think its a big con. please dont prejudge. if their victims blame themselves, does that make their suffering any different?

John, from your post one could deduce that if the mothers of the stolen aboriginal children were happy the children were taken, then the practice would not have been evil, or at least not as evil. Just because some people have happily integrated their lives into Herbalife does not mean its business practices are on the level. I think when morality is brought into a conversation about the soundness of a business you are heading down a dangerous path. Stick to the facts concerning the soundness of the business and whether it acts in accordance with the law and your argument will be much stronger.

given the purported scale of the fraud alleged by Bill Ackman, it is surprising no-one at Herbalife has taken the opportunity to report it to the SEC's Office of the Whistleblower (where awards of between 10% and 30% of any penalties collected can be made)...or perhaps its simply not happeninghttp://www.sec.gov/whistleblower

John, I have to say I agree with previous commenters here. I always appreciate your blog for its intellectual honesty and you have slipped up a bit here in my opinion. Communities don't need their exploiters and colonizers. Doesn't make it illegal -- just, you are reaching, and that disappoints. All best. (no position on the HLF laugh-in, btw)

The mothers dropping off their kids aren't real customers, they just found a cheaper way to have their kids at daycare, and the club owners found a way to get customers, although this assumes those dropping off the kids aren't HLF distributors as well. Either way, this is NOT an example of true market demand for the products.

Firstly I want to say I have no stake in any form in this company, nor do I plan to. I did, out of interest, watch Bill’s presentation today. Which, of course, led me to your blog (seeing as you were mentioned).

I get that this is not only financially important, but obviously emotionally important to him. Especially from his personal story; and the choking back of a few tears. But, I’m not sure if he has enough to take this company down. Sure, much of the company’s sales come from their own staff (distributors) but it’s not unlike other companies without retail shelf space. Such as Mary Kay Cosmetics, Amway, or Avon. My mother is a distributor of Mary Kay – but she is her own customer. She needs to sell $500 per year worth of products – and it doesn't matter to whom. She uses enough of the product herself that she doesn't care about such a small quota. She does not recruit people, and she’s a lousy sales person. She has no idea who her regional sales manager is – who supposedly gets a cut of her sales. 20 years ago she was lured and “sold” the big dream. The brand new pink Cadillac – the hope of making thousands of dollars if she recruited a bunch of sales people. Same ole same ole – except she didn't need the job. Bill is saying that people are being taking advantage of with large quotas and moving goals posts. They are being “sold” on false promises of getting very rich except that the f’n carrot is incredibly illusive.

According to Bill, the Herbalife distributors must put their own money into the game, along with their friends and family, potentially financially devastating a large portion of their already poor “staff” to benefit a few at the top. Apparently, unsold product is not returnable, meaning the distributors take on 100% of the product risk (which by the way is not the norm for Mary Kay cosmetics, which takes back unsold inventory).

One thing to understand (which I’m sure you do) is that American’s are extremely good at branding, marketing, sales, and product positioning. It seems like it’s in their blood. Selling the “dream” is as common as white bread that, for some reason, never goes moldy. It’s not really “food”, but it’s not illegal to sell or eat either.

The simple definition of a pyramid scheme is when the distributors at the bottom are actually just unknowingly being investors/customers for the benefit of the top tier. Couple that with grandiose promises of riches, when the reality is at best, marginal prospects of making a small living. Unless, of course, they can successfully continue building the pyramid beneath them. Though the business model, in itself, is creepy and greedy – it’s fairly normal from what I've seen with similar companies.

From my own personal lessons in the past, it doesn't really matter if he’s right or wrong. What if he connects with investors- maybe they take their profit from today and move on? What if Bill actually does connect with those potential new recruits and they change their mind and move on too? What does that mean for future revenue? Will they have a more difficult time recruiting? If so, how much will that really mean to their bottom line – how much revenue really comes from the recruits’ personal investment versus some regular Joe customer like me or you? On the other hand, what if the regulators say – “so what, who cares! As long as inventory sold matches receipts”? Worst case scenario is a halt or cease on the stock trading.

I want to echo some of the points made in previous comments. You seem to have done away with your usual analytical and fact based approach and are relying emotional anecdotes.

I have no doubt there are some genuine customers! Some of them may even believe all the Herbalife hype! It still doesn't answer the only question that matters - does the money paid to distributors come predominantly from genuine sales or does it come from recruiting others. Based on the way the company has reacted to this attack I think it is probably most likely that they themselves don't know (if they had the facts to prove this the debate would have been over long ago). It would be much more beneficial if you could try to answer that question in your posts rather than feeding us stories about Herbalife clubs and the stolen generation.

P.s. Have you had some personal run-in with Ackman or do you just not like the guy? Your arguments seem more focused on how he is wrong (e.g. he doesn’t understand the lower classes) than on why Herbalife is a sustainable business. No coincidence I am guessing that you are also raising questions about Valeant...

I dont' argue illegality. As someone else mentions in the comments, I doubt even HLF knows for sure whether it is/isn't illegal, and for better or worse it's likely going to end up decided by someone else than Ack/John/HLF.

But if we're getting into emotional discussion of social goods or evils, to be honest, I don't find getting people to work for sub-minimum wage for what is in effect a social good that less evil. _Especially_ if the main purpose (the social interaction, daycare provision etc.) is really a by-product.

Ackman may feel bad for poor Hispanics, who haven't climbed the socioeconomic ladder the way his ancestors have. But Herbalife isn't to blame for that. America isn't the same place it was when Ackman's ancestor immigrated to the US from Russia, and Hispanic immigrants are not the same as Jewish immigrants.

That said, I think your comparison of the Aussie aborigine situation with that of Hispanic Americans elides some key differences, in particular the high levels of addiction and sexual assault of children in Australian aboriginal communities.

As an aside, I think it's interesting that both Hempton and Ackman express concern for the poor Herbalife sellers, but that said, a simple thought experiment suggests Hempton has the stronger argument on that score.

Imagine Herbalife dissappeared tomorrow: would Hempton's Herbalife sellers in the Bronx be better or worse off?

It's not as if Herbalife is drawing these folks away from more remunarative career opportunities.

Maybe it is, maybe it isn't. If the couple John gave in his example run a daycare for the same cost that the customers now pay for herbalife drinks, I'd say all would be better of. The couple would make more money, the cost to their customers would be the same, and the major difference wold be that HLF wouldn't make any money. They could even still have a scoreboard with weight - I'd be willing to bet that the psychological effects of group commitment help with droppping weight as much as the protein drink if not more.

In other words, where something like this works, the protein drink is a massively overpriced prop. Saying that all would come down w/o the prop may or may not be true - that depends on how much people get to realise it's a prop.

If Ackman really wanted to kill HLF, he should be going to the clubs and persuade the people HLF is a prop, and they can get most of the benefits w/o it. Much tougher job, but benefits not just his short but the society as whole.

Herbalife, Valeant - is it just coincidence or are you in a personal twist with Ackman?In the last time there are not many postings where you do not cover a company you are at opposite positions with him - and quite often you even attack him ad hominem.

Sounds like Herbalife is the middleman for a child care center. Not sure of the cost for a nanny/babysitter in the bronx but here in a much cheaper city (phoenix, az) the cost is a minimum of $15-$25 for an adult per hour (maybe you could get away with $10 an hour for a responsible high schooler).

For a $3 shake I'd buy 2 and throw them away to get the kids watched for a few hours.

Protein shakes aren't a psychological crutch, they are a meal replacement that facilitates weight loss / maintenance. Now, it's true Herbalifers could use other vendors' protein shakes instead, but if you ask Ackman to persuade them to use a similar community support system with different shakes, you're basically asking him to create an Herbalife competitor, which he is welcome to do.

And maybe he should, if he thinks he can give Herbalife customers a better opportunity to lose / maintain weight while earning some residual income. Then, at least, he could argue he was doing something in the interest of poor Herbalifers. He does nothing for them by shorting HLF and waging a jihad against the company.

I think Josh H's comment above is right on the money: perhaps the HL clubs are to a large degree "middlemen" for a combination social club, moral support, lifestyle organisational aid, and child care?

(And frankly I'd like a place like that in my neighbourhood - maybe not HL but some other version).

There are lots of businesses where what you pay for (the actual product) and what you are really purchasing (some related service) are quite different things. Buy a shake, get a place to hang out - buy a coffee and chat with the neighbours / read the paper.

The easiest example is a modern coffee shop - where frequently what one is purchasing is a different service - a place to sit, talk, use their wifi, concentrate, get out of your tedious flat, meet friends, perhaps have informal business meetings, etc. The social convention is that you buy coffee and a snack from time to time (and perhaps use it as your preferred coffee take-out supplier even when you aren't using that other service). Sure, some people are buying only coffee, but for many others that's a secondary aspect.

In other words, the business model of selling the actual service doesn't work very well.

It also provides very effective price discrimination - because frequently you 'pay what you want' (or can) rather than some standard price for the services received.

And that can work for the owners too - because a social facility has a network-like effect where you go there because you like the environment and the other people.

Sure, some people 'underpay' for the actual services they're getting (some people go to bars and drink the absolute minimum, or sit on computer for hours in a coffee shop, or don't buy as many HL shakes as some others...). But if it works out overall, including for the lifestyle of the owners, it can be a decent trade-off for everyone.

John, you can give whatever spin you can. But everyone knows how MLM is all about recruiting and nobody would buy that "shake" but for the "business opportunity". I have seen this up close with Amway. The big question is if regulators will act. I personally think they will..considering the clout Ackman has in New York and his tenacity. Please do not give any more spin that people go to clubs to buy shakes. there are 3-4 million failed distributors every year.

I don't drink the shake for the business opportunity I drink the shake because of the nutrition provided from the shake.

Nutrition clubs are a place to meet and sample the different shake flavors, my favorite now is Orange Cream with Mango and Peaches! Again I go because of the value of the shake so that I have the energy to get through the rest of the day! Instead of having a burger or such and slump sometime around 3:30 pm and cannot get my work done!

The nutrition club for me is the easiest way during the day to get my nutrition and the energy to get through the rest of my day.

You all should go check out www.iamherbalife.com everything is spelt out there including all this investigation, personally i have nothing to hide being involved with Herbalife now since 2002, not disappointed by anything they have done, i have enjoyed the journey and look forward to new adventures with this company called Herbalife. Maybe some of you reading this blog should consider making the journey with us!

Analogies are difficult to get right, and can often confuse the situation. I don't think this one is helpful, as I thought of your parachute/ drugs testing analogy. I think both fall under the fallacy of false analogy.

Apologies if I'm misinterpreting your argument, but you seem to be saying that the HL social groups create a community, therefore it is not a pyramid. But you don't explain why the "therefore" is valid. Could HL not create a community and happy people while still being a pyramid?

@Alex - I'm not going to presume to answer for John, so just my opinion.

But I agree that in one sense the therefore is not a _proof_, but it can serve as a partial answer. The rest of the answer would have to come from data/research, and he's indicating why he believes the data from the shorts is wrong.

I believe it's fair to say that a pyramid is when the investors/purchasers/middlemen are incentivized primarily by the returns they get from people further down the pyramid. And since that can't go on forever, at some point it has to stop.

But if at some point all of the distributors are clientele as well _and get value out of the service sufficient to keep them in_, it does not require new 'suckers' all the time. (Except possibly replacement, like churn in any business).

Another example: imagine it is a bridge club that starts by getting new members by giving a discount for those who bring people in, on an ongoing basis - and some can even make money on it. [I'm going to insert two conditions: people like bridge clubs with a minimum number of people, otherwise you can't play the more complicated group games, but too many is bad. Both actual numbers are undefined. Last condition is that most members actually like playing bridge - they get value from the membership separate from the incentives.]

The first members are incentivized to a large degree to ensure the club gets enough members - otherwise they don't keep getting revenue. Later members get less of a discount but still get to play. The last members to come in bring in their spouses and get mutual discounts.

Everyone is happy and it is sustainable _in the right conditions_ - basically where everyone is paying as much as they want in order to play bridge. There's no requirement that all pay the same price - members all have different utility curves. There's no need to grow continuously. Some clubs fail, some do very well, some just barely scrape by forever.

There _may_ be (and likely will) changes over time. Apart from random (people move, some decide they hate bridge, etc), there will be some movement as the most ambitious decide to start new clubs (or encourage their best salespeople to start new clubs, if the incentives are locked), etc.

But it can all be sustainable over time as long as enough people value the service (playing bridge) more than _they_ are paying for the membership.

For individual clubs, members may also have sufficient incentive to ensure enough new members come in to keep the club alive - because they value playing bridge at 'their' club (over losing it and having to find a new club or take up golf or whatever).

Is this a lock-solid 'proof' that this is not a pyramid? Absolutely not. And the incentives could change, or preferences change, or alternatives get cheaper, or whatever.

But those are data issues distinct from the incentive structure. The key is whether the members are there because they are expecting a payoff, or whether membership is sufficient pay-off as a packet of services.

[I'm still working through this so apologise for thinking by keyboard, and if it's nonsense. But hope it's useful to others, too.]

John, you left a clue to the true nature of your club in one of your own statements! You say:"'one of her customers - in full knowledge of the financial circumstances was going to start a similar business a few miles away."

She was NOT A CUSTOMER! She was being recruited to start her own nutrition club! Its a pyramid within a pyramid, and its crazy how hoodwinked and blind you sound right now.

I'm not a victim of Herbalife but a very healthy breast cancer survivor I'm not a rat either i took the product and Dr's very surprised how well i handled chemo and radiation kept taking the herbalife cellular nutrition and antioxidants with treatment I'm not a billionaire like greedy Ackerman but feel like one i will scream this out if i can help others going thru cancer or any other disease! Without your health how can you enjoy your billions go close them businesses that KILL you with their SUGAR! ♡♡♡♡♡♡HERBALIFE!

Does Ackerman give opportunities to the poor or unhealthy all over the world or has a good plan for the obesity epidemic that's hurting millions? Go attack the company's that are causing the problem. The poor feel rich and have some sort of opportunity once they regain their health!

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The content contained in this blog represents the opinions of Mr. Hempton. Mr. Hempton may hold either long or short positions in securities of various companies discussed in the blog based upon Mr. Hempton's recommendations. The commentary in this blog in no way constitutes a solicitation of business or investment advice. In fact, it should not be relied upon in making investment decisions, ever. It is intended solely for the entertainment of the reader, and the author. In particular this blog is not directed for investment purposes at US Persons.